Why not let AIG fail? Can 'systemic risk' be a scare tactic?

The more I learn about why we've committed $180 billion to a company that lost $99 billion in the last year, the more I scratch my head and wonder: Why we don't just let it fail? The answer that comes out of the government seems to be because of 'systemic risk.' But one thing that does not come out of government is the answer to the question: How much would systemic risk cost?

As best as I can tell so far, 'systemic risk' is a phrase that is repeated with a solemn demeanor and a knowing look of disaster intended to scare the government into giving the company everything it wants. In this case, the company is American International Group (AIG), whose CEO said yesterday that if ratings agencies had downgraded its debt, AIG would have been required to come up with $8 billion to $11 billion worth of collateral. Doesn't AIG already have that money on its balance sheet?

Since that figure does not sound bad enough to warrant $30 billion more, I discovered that there is another systemic risk that AIG is using to scare the government -- the risk that if AIG failed, life insurance policyholders would rush to cash in their policies all at once. AIG has 375 million policies with a face value of $19 trillion. While AIG is trying to create the impression that if if failed, all those policies would be cashed at once, I am not sure if $19 trillion is the amount of cash it would need to come up with in that case.

Unlike banks, there is no federal insurance regulator; there are only state ones. And these states are supposed to make sure that insurance companies set aside enough money to pay customers in the event of a claim. AIG believes that if it failed, the so-called guarantee fund would be swamped and other insurance companies would have to pay more into the guarantee funds to replenish them. It also claims that those calls for replenishment would bankrupt the insurance companies.

In the absence of specific numbers, this just sounds like a scary movie treatment ginned up for the purpose of getting financing. And it appears that those who are overseeing the taxpayer's money are falling for AIG's scare tactics without exploring other options or considering that they might be little more than self-interested pap.

Someone overseeing all this money needs to make decisions based on an analysis of how much it would cost taxpayers to let AIG fail and then compare that cost to the $180 billion already spent -- as well as how much more it would cost to keep AIG from collapsing.

If that additional cost is greater than the cost of AIG's failure, let the free market work.